Indian Banking Industry - PSU and Private


(Yogesh Sane) #1

Banking Industry is vital to any capitalist economy. It converts small savings into debt and equity capital that fuel major investments to take the economy to the next level. While this forum has excellent information about individual companies, sometimes an industry level discussion is beneficial to all investors as industry level analysis is essential for anyone investing in any company.

Since banking is a commodity business, finding the best bank in terms of efficiency, costs etc is important in making an investment decision. I was unable to find reliable industry level data even from RBI that is useful from an investor’s perspective.In absence of a industry level data, I decided to dig up some data for major banks and prepared a peer analysis so that banks can be compared with each other before making an investment decision.

Following charts presents the data for some of the largest banks in India in terms of assets or market cap. These charts are prepared using standalone number that contain only the core banking operations and exclude other non banking operations like security and insurance etc to make the data comparable.

Size - Chart below shows some of the PSU and private sector banks and size of their balance sheet. SBI is bigger than top 5 private sector banks combined.

Higher assets does not automatically result into higher market value.

Yield on Avg Assets - Most banks in India are basic Savings and Loan institutes that borrow from public and lend to public, corporates and government. Each of these borrowers have a different risk profile. Banks in this analysis lend to all three but at varied proportions and risk profiles. Large banks have comparatively lower yields implying that they are offering reduced interest rates for wholesale customers. Another reason is they also have lower cost of funds.

Kotak tops with chart while big PSUs (SBI, PNB) have lowest overall yields.

Yield on Advances - Since banks hold a significant portfolio of govt securities in which they are just price takers, Yield on advances is a better measure of how bank is lending. Advances are the loans made to private borrowers like general public and corporates.

Here, difference between large and medium size banks is more visible. Kotak, Yes and Indusind have higher yields than their larger peers.

Advances as a % of Assets - Banks have to invest 25% of their portfolio in govt securities. Depending on perceived credit risk, banks choose to lend to corporates. How much assets banks are parking in govt securities market is an indication of overall credit risk in the economy.
Over last 3 years, PSU banks have curtailed their lending to private sector due to rising NPA while private sector banks have filled the gap by increasing their lending at attractive rates. Yes Bank has made the most change from govt to private sector just when economic growth was picking up over the last 3 years. Whether that was a co-incidence or a strategic decision is not known, the result is it has lower NPA ratio than others.

Cost of Funds - Banks have access to public deposits and that is a big advantage. Banks have the lowest cost of funds compared to NBFCs, HFCs etc. Larger banks have a definite advantage over here while medium size banks are fast catching up.

Net Interest Spread - This is the difference between the interest rate that a bank earns and interest rate it pays to its depositors. HDFC and Kotak tops the chart while PSUs are that the bottom.

Next few charts compare the cost structure of banks. Total cost are divided into Interest Costs, Operating Costs Credit Costs and Tax Costs. Costs + Profit Margin should add up to 100%. All cost component are represented as % of Total Income.

Interest Costs - This is the biggest cost component. Although PSU banks have lowest costs of funds, they are not able to charge high interest rates to their borrowers thus their interest costs are higher than private banks. Private banks score well here with their low cost of funds and higher yields on assets, they are able to keep their interest costs low. HDFC tops this chart while ICICI Axis and Indusind are close. Yes bank is making progress but has some distance to go.

Operating Costs - This is total of all the costs except interest, provisions & write-offs and taxes. This is the cost of operating the branch network and backoffice operations. Yes bank has a lead here but its costs are rising.

Credit Costs- This is perhaps the most important quality indicator. This is the amount a bank has to set aside to cover current and future loan losses. PSU banks have seen a sharp rise in this cost. ICICI is also looking like a PSU bank now. Yes bank tops the chart with lowest credit cost.

Tax Costs Since banks don’t get any tax sops, tax costs should converge to average over time. Banks who have made large provisions have reported lower tax costs.

Net Profit Margin This is the amount left after all costs are paid and provisions are made. Private sector banks are a clear standout with HDFC topping the chart. Yes and IndusInd are close. Axis has seen its profitability decline this year (2016-17). PNB has posted loss due to surging NPAs.

Shareholder Return Ratios

Return on Average Equity - The best shareholder return indicator. ROE of the industry has seen some decline due to higher NPAs in recent years. Banks like Yes and HDFC have posted some decent numbers. PSU banks should be happy to earn a single digit ROE. That will make them better than many Maharatna PSUs.

Return on Avg Assets - A bank can earn high ROE by leveraging its equity with debt but in the process it is increasing it risk also. Return on Avg Assets measures profitability without the effect of leverage. HDFC and IndusInd are the top 2 banks in the metric.

Leverage - Banks are highly leveraged. Leverage is one of the most important risk indicator of a bank. This is the total assets/ total equity. Even if a few loans default, bank’s equity can be wiped out. PSU banks with their implicit govt backing are the most leveraged. This is the classic moral hazard of govt guarantee. PSU bank managers will lend recklessly without fear of bankruptcy as in the event of a crisis they will get bailed out by the govt. Private sector banks have no such luxury. They are cautious.

Capital Adequacy Ratio - Since a bank holds significant % of government securities, a true picture of risk is the equity as a % of risk weighted assets where govt assets are considered (credit) risk free and assigned a lower risk weightage. Housing loans also carry a lower weight. Banks in India are significantly above the Basel III requirement of 9%.

Non Performing Assets

Banks routinely get into trouble when borrowers default. Credit appraisal is one of the key skill that sets a good bank from a bad bank.

Gross NPA % This is ratio of assets classified as non-performing to total assets of the bank. PSU banks have seen a surge in NPA in recent years. ICICI is just as bad in getting credit risk wrong and Axis is following the lead of ICICI.
Yes, IndusInd and HDFC have managed to keep their NPAs low even when others are struggling.

Net NPA % Banks set aside some of their profits to cover the losses on loans they made each year and also when they anticipate loan losses to exceed their previous estimates. This is called provisions. Net NPA is the Gross NPA minus the provisions. This is the number that shows how much bad loans have not even been provided for. Should these loans go bad, bank will take a hit on its profits.

Technically this number should be close to zero as banks are suppose to provide for loan losses but banks are generally optimistic and think that bad loans will turn good (and some of them do) but quiet often they have to make a catch provision.
PNB, SBI and ICICI are sitting on huge pile of bad loans while Axis is seeing its loans are going bad a fast rate. IndusInd Yes and HDFC are the best banks here.

Provision Coverage Ratio - This is the ratio of provisions to gross NPA. This shows how much of the bad loans are already provided for. Ideally this ratio should be close to 100% with international standard is at 70%. Only HDFC meets that standard. PNB despite making huge provisions, is still under-provisioned. ICICI is also fast losing its provision cover.

Valuation

Price to Earnings Ratio - most popular price multiple. This ratio is calculated using annual average price divided by year end consolidated EPS. PE for 19 Nov 2016 is current price divided by TTM consolidated EPS.

**Price to Book Value ** - Banks are generally valued using PB rather than PE as equity base determine how much a bank can scale its operations. This is also calculated by taking annual average price divided by year end book value per share. PB for 18 Nov 2016 is current price divided by TTM BVPS.

Conclusion - HDFC scores well in most of the metrics while IndusInd is close second. Kotak also score well but its numbers are skewed by acquisition of ING Vysya Bank. All 3 banks are also highly valued by the market so there is not much margin of safety. Yes Bank is making good progress and its valuation is also fast catching up. ICICI and Axis are losing their position among the highly valued (in terms of P/B) due to their poor performance in recent years. Market never valued PSU banks highly and many are selling at deep discount to book value indicating market has no confidence on whats in their books.

This is already a very long post. In another post I will include fair value calculation of these banks.

Disc - Invested in Yes Bank.


How to analyze NBFC companies?
ValuePickr- Mumbai
Sector reports for Reference
(Yogesh Sane) #2

Peer analysis of few more medium and small PSU and private sector banks.

Size PSU banks are much bigger than private sector banks in this list. These private sector banks are niche regional banks that cater to customer in a specific region or a specific type of customer unlike some of the other diversified national private sector banks.

These banks also have much smaller market value compared to their larger peers indicating that despite their asset size, they are not able to generate proportionate market value. Some of these might become a turnaround candidate or an acquisition target for larger banks.

Yield on Avg Assets This it interest income / average interest earning assets. PSU banks have a clear disadvantage here. Smaller niche banks are earning at par with their larger peers.

Yield on Avg Advances This ratio focuses only on the yield on risky assets (advances to corporates and general public except government bonds). Same pattern as overall yields.

Advances as a % of total assets PSU banks due to their surging defaults have sharply curtailed their lending to private sector. Private sector is already at the maximum limit and picking up share from PSUs. Larget private sector banks appear to have benefited the most at the expense of PSUs.

cost of Funds PSUs have an advantage here as deposits in a PSU carry an implicit government guarantee while deposit in a private sector bank is insured only upto 1 lakh. Smaller private sector banks have to pay higher interest rates to attract customers as these are not known for good customer service. Some of these are trying to copy ICICI and HDFC model trying to reduce their interest costs.

Net Interest Spread This is the ratio that captures basic banking KPI. PSUs are clearly the losers here. small private sector banks are better than even their larger peers mainly because these cater to a niche. J&K tops this chart but in recent quarters it has seen losses. DCB is making good progress.

Next few charts compare the cost structure of the banks. Total cost are divided into Interest Costs, Operating Costs Credit Costs and Tax Costs. Costs + Profit Margin should add up to 100%. All cost component are represented as % of Total Income.

Interest Costs - This is the biggest cost component. Interest expense / total income. This cost is generally higher their larger banks indicating larger banks have economics of scale in the core banking business.

Operating Cost This is all the costs except interest, provisions & write-offs and taxes. This is the cost of operating the branch network and backoffice operations. Operating costs are generally lower than larger peers. DCB is trying to emulate customer friendly model of larger private sector banks and has seen it’s costs rise as a result.

Credit Costs This is the amount a bank has to set aside from its interest income to cover current and future loan losses. This is where smaller banks have a bigger issue. These costs are higher than larger banks across the board. these banks are not able to hire enough talent to get the credit appraisal done correctly. PSU banks have seen a sharp jump in defaults. private sector banks have maintained their (not so good) quality.

Tax Costs - Taxes are generally lower for smaller banks. -ve number indicate a bank received a tax credit since it may have made a tax provision in earlier years in anticipation of future profit (which turned out to be a loss) that was written back.

Net Profit Margin - the bottom line. PSUs have seen their profit turn into losses eating into their equity and threatening their very survival. Lower equity will force them to restrict new loans or even stop refinancing existing loans which can result in additional losses. Govt will eventually have to arrange a shotgun marriage with a larger peer or arrange a bailout. Smaller private sector banks are doing OK.

Shareholder Return Ratios

Return on Average Equity - The best shareholder return indicator. Banks in general have low ROE due to commodity nature of their business and regulatory limits (CAR, SLR etc). PSU banks have seen their already low ROE turn negative and private sector banks are barely earning above their cost of equity. Except City Union Bank, none of the banks are earning enough for an investor to risk his/her capital. These are classic value stock that can turn into value traps.

Return on Avg Assets - A bank can earn high ROE by leveraging its equity with debt but in the process it is increasing it risk also. Return on Avg Assets measures profitability without the effect of leverage. City Union Bank has decent ratio.

Leverage - Banks are highly leveraged. Leverage is one of the most important risk indicator of a bank. This is the total assets/ total equity. Even if a few loans defaults, banks equity can be wiped out. PSU banks with their implicit govt backing are the most leveraged.
These banks have generally higher leverage (to compensate for their low ROA) compared to larger banks. Since these banks also have higher proportion of risky assets, their risks are generally higher than larger banks. City Union and DCB are good banks in this chart.

Capital Adequacy Ratio - Since a bank holds significant % of government securities, a true picture of risk is the equity as a % of risk weighted assets where govt assets are considered (credit) risk free. Basel III minimum is 9%. This ratio is generally lower than larger banks indicating a higher proportion of risky assets in their books. Should their capital drop further, they will have raise new capital (which no one but the government will want to buy). City Union and DCB are good banks in this chart.

Non Performing Assets

Banks routinely get into trouble when borrowers default. Credit appraisal is one of the key skill that sets a good bank from a bad bank.

Gross NPA % This is ratio of assets classified as non-performing to total assets of the bank. PSU banks have seen a surge in NPA in recent years. This ratio is (dangerously) higher than larger banks and rising. this is a reason enough for anyone to stay away from these banks.

Net NPA % Net NPA is the Gross NPA minus the provisions.From an investor’s perspective this number should be close to zero as banks are suppose to provide in full for loan losses. Since this number is smaller than Gross NPA, banks use this number to diver attention from the GNPA number.

Provision Coverage Ratio - This is the ratio of provisions to gross NPA. This shows how much of the bad loans are already provided for. Ideally this ratio should be close to 100% with international standard is at 70%. None of them even come close to this ratio. Banks don’t make enough provision as their customers have a history of falling behind on payments and somehow managing to catch up much later.

Valuation

Price to Earnings Ratio - most popular price multiple. This ratio is calculated using annual average price divided by year end consolidated EPS. PE for 19 Nov 2016 is current price divided by TTM consolidated EPS. Valuation correctly reflects their overall low quality.

Price to Book Value - Banks are generally valued using PB rather than PE as equity base determine how much a bank can scale its operations. This is also calculated by taking annual average price divided by year end book value per share. PB for 18 Nov 2016 is current price divided by TTM BVPS.
Many of these banks are selling at a deep discount to their book value reflecting their huge pile of bad loans. Market is expecting that some of these loans will go bad and banks have not yet provided for these loans. This a a good area for value investors to dig deeper and see if market is mispricing any of these.

Conclusion - Smaller banks are of much lower quality then their larger peers. Since we are going though NPA crisis some of these may not even survive if things get bad from here. City Union and DCB are the only two candidates worth considering.

Disc - Not invested currently. Previously invested in City Union Bank.


(Nityanand) #3

Really informative post @Yogesh_s .It must have taken couple of days to compile this much data.

Few questions from my side

  1. If the bank increases his branch network it automatically increase its Book Value, is this right? If that is the case then how the trend of keeping Business Correspondent for generating business will impact for banks. As banks donot have to invest huge money for setting up branches and BCs will be doing their operations with a commission. Will banks can command a higher Book Value per Share?
  2. In the recent scenario of Demonitization, the banks will collect a lot of money and they will need to give Interest on this. Will they not require to disburse the loans at the same pace as it will impact profitability?

(Yogesh Sane) #4

Number of branches has nothing to do with the book value of a bank or any other business for that matter. Book value of any business including bank is the total value of shareholder funds which includes capital initially contributed by founders, any capital that comes in when additional shareholders come in (e.g.as in case of an ipo or qip) and any profits that company retains instead of paying out dividends…

Whenever a company earns profit its book balue will increase and whenever it pays dividends its book value will decrease.

In case of buy backs book value will decrease but book value per share may decrease or in some case even increase depending on the price it pays to buy back its own shares.

Banks are collecting lot of money due to demonatization . Some of it is deposited in checking and savings accounts on which bank pays a small interest while remaning is deposited in term deposits on which banks usually pays a higher interest rate.

Banks may not always immediately lend this money out if they can’t find creditworthy borrowers. In fact banks may rebook at their credit policy to account for slowdown in economy due to demonatization and its impact on existing loans.

Banks are buying government bonds with all this new money coming in. And that’s why we see yields on govt bonds are falling. Since govt debt carries no credit risk banks don’t have to worry about capital adequacy ratio while lending to govt. Net interest margin on treasury business is still positive if you consider cost of funding and yield on treasury bonds (even though it is not as high as corporate debt). So all this money coming in is good for profitability of the banks as their net interest income goes up and equity remains the same.


(Yogesh Sane) #5

Valuation of Indian banks using 3 Stage dividend discount Model as explained by A Damodaran

http://pages.stern.nyu.edu/~adamodar/pdfiles/valn2ed/ch13.pdf (Page 23)


Parameters and Assumptions

Discount Rate is calculated using CAPM formula

Discount Rate = Risk Free Rate + Beta * Equity Risk Premium

Risk Free Rate = 6.5%
Equity Risk Premium = 6%
Beta is calculated based on weekly returns for last 1 year.

Future growth rates, payout ratios and time periods are all estimates based on fundamental analysis of each company.


(prashantrane2000) #6

Thanks for informative post, can you please share your view on disruption due to digital wallets and payment banks on existing business. Also some online only banks are coming up (DBS), also there is active marketing by mutual funds(liquid funds) which gives 6% minimum interest for now compare to saving bank interest rate. As people become more financial savvy impact will only increase compared to current situation.
Also how Indian banks stands out w.r.t. global peers I heard Indian banks are getting p/b very high compared to us banks.


(bkasal) #7

Very well analysis Yogesh. Appreciated your efforts.


(Yogesh Sane) #8

Personally I think digital wallets will be helpful only in low value small ticket transactions that used to happen in cash if at all the cash crunch persists. I think digital wallets has a steep learning curve compared to debit/credit so I think the adaptation will be slow. Digital wallets don’t pay interest, there is no protection against a wallet company going bust, you can’t dispute a wrong transactions the way you can in a credit card transaction (since they already have your money, they have no incentive to pursue the dispute unlike a credit card where you can default if there is a genuine dispute). To fund the wallet you have to use a card, internet banking or some other cashless mode of payment anyway. Why would a user use his/her card or internet banking to fund the wallet then use the wallet to pay instead of using the card or internet banking to pay? The only reason I can see is if the merchant accepts wallets but not cards. That’s the only positive aspect of digital wallet because it is smartphone based so it is easy to adapt for merchants compared to a card based POS machine. Wallets can also offer a low merchant discount rate compared to plastic cards which is a big pain point for merchants. I also feel a digital wallet is safer option than a card in certain cases where a card can be misused. e.g. I will be skeptical of paying a cab diver with a card as I can’t trace back the cab driver if he manages to misuse my card in some or the other way.

There are so many wallet companies and each bank is coming out with its own wallet app so a merchant has to signup for several of them to be able to accept wallets and that can be a logistical nightmare for a merchant. With POS machines, a single machine connected to a gateway will enable the merchant to accept any card (Visa, Mastercard, Amex, Rupay etc)

With a digital wallet, it is difficult to establish link between the underlying goods/services transaction and the payment transaction. i.e. for large merchants who record each goods/service transaction in their ledger, they have to be able to link the payment transaction with it otherwise the the goods/service transaction will remain unpaid and payment transaction will go in suspense. Digital payment is thus suitable for merchants who don’t record each of their goods/service transaction but that will create a tax issue as they won’t be able to reconcile their cash receipt in their bank account (from wallet companies) with their official tax accounting ledger. Most merchants prefer cash based transactions so they can avoid recording transactions, recognizing income and pay tax.

As SBI chairman Arundhati Bhattacharya puts it, cashless transactions will be treated as a diet plan during a medical emergency only to be discarded once the crisis is over.

Online banks will have a trust issue. With general law enforcement is weak in India, I don’t think online only banks will take off. Traditional banks can also offer no-frills account to compete.

Personally, I don’t think people are getting financially savvy. In fact the pace of innovation in financial market is so fast that I would say more and more are falling behind the curve when it comes to being financially savvy as the term financially savvy keeps getting redefined.

P/B of Indian banks is higher than their International peers because they have higher growth potential, higher profitability and better capital adequacy standards.


(shunz) #9

thank you for this informative post.
Can you please explain how is credit cost calculated?


(Yogesh Sane) #10

Credit cost is provisions and write-off expenses divided by total income.


(shunz) #11

while analyzing banks do you also take into account the stressed assets %. Also, do you factor in exposure to capital markets and commercial real estate…I tend to factor commercial real estate % and consider it to be a huge risk…
for eg the commercial real estate loan % of yes and indusind are on the higher side (8 & 7.2% resp as on march 2016). Is it a good idea to discount such stocks. If yes, then to what extent?


(Yogesh Sane) #12

Generally banks with higher levels of stressed assets also have higher levels of NPAs. Since I avoid banks with higher NPAs, I don’t look at stressed assets. such banks eventually become turnaround candidates but I avoid turnarounds as well.

Commercial real estate is essential so lending money to commercial real estate per se is not risky as long as banks are doing the due diligence and price the loans accordingly and avoid taking a lot of risk that can’t be priced. I wouldn’t want to second guess management’s ability to do the due diligence as long as they have shown a good track record of doing it well. To me a long term track record of controlling NPAs is a good indication of management’s ability to control risk.

about discount rate, I start with larger banks like HDFC which are generally priced at fair value most of the time by the market and I use reverse DCF to determine what discount rate market is applying. I then add to this rate for other banks that are a notch lower than HDFC (e.g. Yes and Indusind) in terms of quality. P/B is also another ratio I use for valuation. using CAPM Beta also give me similar results.


(Mridul) #13

@Yogesh_s bro - Most of the banks had huge treasury gains due to fall in bond yields during last few qtrs. There are two ways in which banks gain non interest income -1. Trading in treasury bonds 2. Rising bond prices due to falling yields. Now, with interest rate probably going to be stable, will these treasury gains evaporate? It looks like most of the PSU banks were sort of bailed out by these treasury gains last year despite horrible asset quality. What will happen going forward? Usually investors ignore interest income vs non-interest income ratio and the related risks. How do you see this going forward for small banks such as DCB, City Union, Lakshmi Vilas?

One a general note - How are these things (G-sec bond price, G-sec yield) correlated. I know they are inversely proportional … but what is the working dynamics? Can a bank have treasury gains with rising or stable yield scenario as well? Probably by trading on both sides? And due to fall in yields, bond prices rise, which results in gains. But why are these two inversely proportional in the first place? Probably a novice question…just trying to understand this dynamics here.

Was going through recent concall of Lakshmi Vilas Bank. Here is what mgmt has to say regarding treasury -


(Tarun) #14

While doing my weekend/holiday homework on one of the holding stocks, I came across this treasure trove of information (from RBI site).

STRBI_Table_No.12-_Selected_Ratios_of_Scheduled_Commercial_Banks_Formatted.xlsx (246.8 KB)

To me this looks to be good one-stop shop for deep down comparative review of banks on some of the metrics that really matters (but are not easily available). What are some of the moving parts that differentiate one player from other on this seemingly uniform industry.

My take away or to-dig further is, are we paying really high premium (by way for high P/B, P/E) for some of the oft refereed and revered pvt sector banks when second/third players are just few notches below yet at reasonable PE or .PB.

Tarun


(stockwiz) #15

Nicely Done Analysis Yogesh. Txs for the effort and time spent in preparing this.Does automation and digitalisation less cashless economy stop or slow down the value migration from psu to private sector. How does psu banks benefit from their jan dhan account holders ?


(Claude Sylvanshine) #16

Interesting, but is a DCF really applicable in the valuation of banks, given the whole point of their business model is to circulate cash and not generate large chunks? Besides your working capital is going to be so huge under the traditional definition.


(Deepak Venkatesh) #17

Hi

I had been looking for a generic Banking thread and found this one. Not sure if this is the right place to post. Moderators please feel free to modify.

I have been digging into RBI data for the liability deposits side for a few years now. And again I was refreshing the data and was surprised to observe a couple of things in the data which is now available with DBIE RBI (Database of Indian Economy).

Two first glance observations I had:

  1. Post the current government’s election there is a drop in the number of branches being opened yearly across all population group cities (RBI classifies cities into Metro, Urban, Semi Urban and Rural). The drop is drastic for Rural branches. The rate has reduced by almost 100% since elections. Though from a pov of Metro and Urban it is justified that people are moving onto Mobile based banking (I outlined one chart on the RBL thread here). But from a Rural perspective I doubt this is happening in whatever little travels I have made to the interior parts of Orissa and West Bengal.

  2. I am not able to find the exact number of accounts being opened across population groups. I tried to dig into all kinds of reports and have now shot a mail to RBI. Luckily I had the analysis which I had done in March 2014 which had the number of accounts opened. So I have back calculated basis average account balance (roughly 20k in rural, 35k in semi-urban, 75k urban and 175k in metro, this should have risen though now). If true why would the number of accounts opened quarter on quarter for last 10-12 years go missing. Have I missed this data :roll_eyes:

Regards
Deepak


(Yogesh Sane) #18

The new framework for resolution of stressed assets outlined in the Reserve Bank’s circular of February 12, 2018 is a game changer for banking industry. It did not get much media attention outside of banking industry due to PNB scam that brokeout just 2 days after. However, this new framework scrapped alphabet soup of all previous restructuring schemes made available by RBI and replaced them with a single framework that is much stricter and is much closer to international standards. A recent speech by RBI Deputy Governor N. S. Vishwanathan outlines the thinking behind creation of this new framework.

Over the years, corporate India mastered the art of gaming the banking system especially the PSU banks. Debt contract embedded in bank loans in India has been continuously losing its sanctity, especially where the borrowing is large. In case of a default, bank debt became subordinate even to equity. In absence of an effective bankruptcy code, RBI came up with a variety of restructuring schemes to resolve bad debt issue. However, due to infamous borrower-banker nexus, banks (read PSU banks) misused the asset classification benefit of these schemes during the standstill period of 18 months. Instead of restructuring the balance sheet of the borrower, banks used the schemes to restructure their own balance sheet. Prolonging the true asset quality recognition suited both the bankers and the borrowers as banks indulged in the proverbial act of extending and pretending.

With new Insolvency and Bankruptcy Code that was enacted and notified in 2016, RBI’s scheme became redundant. IBC code is both process-oriented and time-bound. The Code envisages timely resolution of borrower defaults through collective decision making by the creditors. RBI’s new framework is based on IBC. Under the revised framework. At the end of the 180 days of first default, that bank is mandated to refer the case under IBC. With the first of the dirty dozen cases referred to NCLT reaching the final stage, a fear psychosis will set in the minds of borrowers that defaulting on a loan could result in they losing control of their companies.

New RBI framework should be good for the banking industry for the long term although in the short term, we should see higher NPAs. This is merely a recognition change rather than an indication of rising stress in the economy.


(fabregas) #19

I started a new thread on India’s banking NPA crisis, since I thought the problem is big and different enough to deserve a thread of its own. Posting a link here since it is relevant to the discussion on this thread: